GUEST-POST | Credit Card Arbitration by the (New) Numbers: Why Do Credit Card Issuers Use Arbitration Clauses?

by Don Philbin

The wide-spread use of arbitration clauses in consumer credit card agreements was one of the reasons for creating the Consumer Financial Protection Bureau (CFPB). One of the by-products of the Credit Card Accountability Responsibility and Disclosure Act of 2009 is an extensive database of credit card agreements. Professor Chris Drahozal takes a rigorous look at that data to test arbitration assumptions in the most recent issue of the Journal of Empirical Legal Studies (JELS), one of my favorite publications. Drahozal and Professor Theodore Eisenberg, who also edits JELS, have examined hard data on arbitration usage – with divergent views – for years. A summary of their back and forth is included in my article, Litigators Needed to Advise Transaction Lawyers on Litigation Prenups, in The Advocate last year.

In Arbitration Clauses in Credit Card Agreements: An Empirical Study, Drahozal examines the agreements of 298 credit card issuers as they existed in 2009. Because all issuers were required to submit these forms of agreement, the database represents the universe of agreement terms rather than the usual sampling of the largest banks. With that comprehensive data set, the authors found that 82.9% of the issuers do not use arbitration clauses, which would suggest a panoply of options for those not wanting to agree to arbitration. But when the data is sliced by dollar value, 95.1% of credit card debt is covered by arbitration clauses. Big bank issuers include arbitration clauses much more frequently than smaller, and often mutually owned, issuers.

Class Action Environment Biggest Factor in Arbitration Usage Decision

Perhaps more interesting, and instructive for clause drafters, are the factors that pushed the decision to include an arbitration clause one way or the other. The principal factor appears to be perceived susceptibility to class action lawsuits.

Since defaulting debtors rarely show up to contest issuer collection actions, and there is no security on which the issuer can foreclose pre-judgment, arbitrating credit card defaults can impose higher transaction costs on the issuer. Not only does the issuer have to arbitrate, it often has to take the extra step of confirming the award in court. On small debts, a court default could be the more expeditious, one-stop path. “All else equal, then, the more frequently an issuer expects to be a plaintiff the less likely it will use an arbitration clause,” according to Drahozal.

The fact that big bank issuers are willing to absorb that extra cost in many small collection matters indicates that the inclusion of an arbitration clause is a defensive measure. If it were simply a matter of collecting the card debt, a court default would often be more economic. So Drahozal concludes that, “Arbitration reduces the likelihood that an issuer will be a defendant in a class action, reducing both expected process costs and liability.”

Consistent with that finding, Drahozal also found that issuers were 11-14% less likely to use arbitration clauses when located in states that have found class arbitration waivers to be unenforceable. The data set used for the study was compiled at the end of 2009, prior to the U.S Supreme Court’s holding that courts must enforce arbitration agreements even if the clause requires that consumer complaints be arbitrated individually rather than on a class-wide basis. AT&T Mobility v. Concepcion (2011). So the data before Concepcion indicated that arbitration use and enforceability of class arbitration waivers correlate, which predicts a post-Concepcion increase in arbitration clause and class arbitration waiver usage.

Other Factors in the Arbitration Usage Decision

Beyond class action considerations, other factors influenced whether issuers included arbitration clauses:

Conclusions

Drahozal finds that consumers have more credit card options that do not require arbitration than is commonly believed. But since many consumers may not qualify for credit union credit cards, either because of the required trade-off with other terms or because they need higher risk products, Drahozal posits that further regulation of arbitration in credit card agreements could reduce the supply of such high-risk products. While Concepcion is expected to result in an increase in arbitration clause and class arbitration waiver usage, especially among banks, the Drahozal concludes that not all credit card issuers will follow suit. And the biggest factor seems to be the size of the issuer – the perception that big banks are bigger class action targets drives arbitration usage up in credit card agreements.

Don Philbin, J.D., M.B.A., LL.M., is an AV-rated attorney-mediator and adjunct professor of law. Philbin has extensive experience and education in the fields of business, law, negotiation, and mediation, and mediates individual and class matters in a range of substantive areas. He teaches academic and professional skill courses at Pepperdine Law’s top-rated Straus Institute for Dispute Resolution and in other programs.

Mr. Philbin’s most recent venture is Picture It Settled®, which develops software to help litigants analyze positions and develop successful concession strategies in negotiation. The free app, Picture It Settled® Lite, is currently available on Apple, Android and BlackBerry smartphones. The empirical research arising from this large collection of negotiation patterns also informs his mediation practice, teaching and writing.

Don Philbin was one of three Texas mediators listed in the inaugural edition of The International Who’s Who of Commercial Mediation (2011; one of five Texas mediators in the 2012 edition), was recognized as the 2011 Outstanding Lawyer in Mediation by the San Antonio Business Journal, and is repeatedly listed in: The Best Lawyers in America, Texas Super Lawyers, The Best Lawyers in San Antonio, and the U.S. News and Best Lawyers “Best Law Firm” survey. Don Philbin is a charter and executive committee member of the Texas Academy of Distinguished Neutrals, and an elected fellow of the International Academy of Mediators and the American Academy of Civil Trial Mediators. In addition, Philbin was one of the first U.S. mediators certified under the international standards established by the International Mediation Institute.